Competing on Price

I had lunch yesterday with a friend who is a running a growing startup business. He is the upstart in a two company market. The established company is starting to notice his company. And apparently the established company is “giving away” their service in certain situations in an attempt to stop the upstart from gaining market share.

I’ve seen this reaction a lot. And it rarely works. First, customers are smart enough to realize that if they are getting something for free, its either not worth anything, or it’s a short term deal that is going to cost them a lot down the road.

In the early days of Multex, First Call tried this approach. It was anti-competitive for one, but we didn’t even have to fight that fight. We just pointed out to the customers that if they allowed the market to evolve into a single provider of electronic research services, it was going to cost them a lot down the road. Some customers took the free deal. But many didn’t. Enough customers went with us that we had a business. And our customers, once they made that leap, became our biggest supporters. They were with the upstart, the David fighting the Goliath. And that was a big factor in our success.

Second, investors are smart enough to realize that if the market is so good that a incumbent is willing to give the product/service away for a while to protect the golden goose, then there are dollars and returns to be gained by investing in that market. In fact, I have often found that by providing an upstart with the financial cushion to survive price competition, I have been able to get a good piece of a good opportunity at a very attractive price. And just as often, the investment itself is a signal to the incumbent that price competition isn’t going to work.

Finally, price is rarely the only issue that customers focus on. They want a good product or service with a good support organization behind it that has the money to continue to innovate and deliver more value every year. That doesn’t happen by squeezing every dollar of profits out of a company. Smart customers are wary of a deal that seems too good.

So I told my friend to hang in there. That he should take the price competition as a sign that he was doing well. That he needed to take the message of his better service to the customers and get them to pay him even though his competitor was willing to give it away. And I urged him to close a financing to support him through the price war. I suspect he’ll do fine.